Wise investors accept some risks

Think you can accurately predict the future? It seems that many Thrift Savings Plan investors do. TSP-related message boards and online forums are filled with posts from participants who are obsessed with trying to position their accounts to either take advantage of, or defend against, this or that anticipated turn of events.

In some cases, this is smart; in others, it’s not. In the case of rising interest rates, for example, the current environment makes higher future rates all but certain. This unusually high probability, along with the availability of an attractive substitute for bonds in this environment, make substituting some G Fund for F Fund a smart move.

On the other hand, trying to game a congressional action — or inaction — that tends to affect various economic factors, is not so smart. Consider what you are assuming when you make anticipatory investment decisions in these cases. Market prices move in anticipation of future events. These moves are driven by the expectations of a large number of very sophisticated players — the vast majority of whom are professionals with a deep supply of resources and experience who are doing everything they can to handicap the probabilities of future events and position their portfolios accordingly. Assuming that the market will fall as a result of a future event is only a safe bet if the rest of the market’s players have failed to recognize the possibility of this coming to pass. By the time you recognize a risk, the market is likely to have done so and adjusted securities prices accordingly.

Why would an intelligent investor wait for the actuality to buy or sell when it’s in their best interest to do so before the fact? To reliably profit from predictions, you have to know important information before others.

If your financial success depends on avoiding short-term losses, you’re not doing it right. A much more reliable — and less stressful — approach is to design your investment plan from the start to tolerate the inevitable losses it will endure. I accept that certain risks are unavoidable and design investment strategies around them. Short-term loss is one such risk.

When it comes to investment management, there are only two mistakes you can make. The first is being too aggressive — that is, taking too much risk. The second is being too conservative, or taking too little risk. That sounds simple enough, but too much or too little risk compared to what?

Many investors judge the risk they perceive relative to their ideal of never suffering a loss. I can’t count the number of TSP investors I’ve interviewed over the years who’ve described their investment goal as “to make as much money as possible without ever losing money!” This is ridiculous unless your lifetime financial goals can be realized with the returns produced by the G Fund. If so, that’s where your money should be.

Most investors I’ve encountered are not in this position, however. Fulfilling their financial goals will require more growth than the G Fund can provide. And, with this additional growth potential comes the risk of short-term loss.

Ironically, what some investors do to try to shield themselves from the risk of short-term loss increases the risk of long-term failure. Assuming that your TSP is properly allocated, moving to a portfolio allocation — say, 100 percent G Fund — to anticipate a negative economic event, will mean that your portfolio is too conservative to meet your long-term needs, so you can’t stay there. If you’re wrong, you’ll miss out on gains that might be important to your long-term success.

Whether you’re right or wrong, you’ll be in a position of having to decide when to shift back to the right asset allocation model. Using this logic, you may as well have left the stock market in 1998 and not come back since — the time period during which a properly diversified and managed portfolio has doubled in value.

About Author

Mike Miles is a Certified Financial Planner licensee and principal adviser for Variplan LLC, an independent fiduciary in Vienna, Virginia. Email your financial questions to fedexperts@federaltimes.com and view his blog at money.federaltimes.com.

Search Money Matters

SUBMIT A QUESTION

First, please review previous Q&As to see if your question already has been answered. If you cannot find the answer, submit your question to our Money expert at fedexperts@federaltimes.com

PLEASE NOTE! Do not submit ANY questions via the Comments form. Questions submitted via the Comments form will NOT be answered!

IF YOUR QUESTION IS NOT ANSWERED

Federal Times’ experts answer as many readers’ questions as possible but, due to the volume of e-mail, they cannot answer every question submitted. You’ll have the best chance of getting an answer to your question if you follow these steps:

• Ask questions that have not previously been answered. Before submitting a question, review the Q&As already on the site by using "search" above.

• Ask questions that fall within each expert’s scope of expertise. Reg Jones, for example will answer questions about federal civilian benefits; he will not answer questions about military benefits.

• Provide sufficient information about yourself — for instance, a question about retirement should say which retirement system you are in.

• Do not expect personal legal, financial or career advice. Answers that require a legal opinion, particularly those involving divorce and court orders, cannot be provided.